Did The Recording Industry Really Miss The Opportunity To 'Monetize' Online Music?

from the basic-economics-time... dept

There's been a lot of talk in the last year or so about the fact that the recording industry supposedly "missed an opportunity" to "monetize" online music a decade ago when it failed to come to an agreement on licensing with Napster. The idea was that Napster could have been iTunes, and people would be paying for music. That claim is made, yet again, in a CNN article about the decade since Napster, with a Forrester analyst claiming:

"That four-year lag [between Napster and iTunes] is where the music industry lost the battle," said Sonal Gandhi, music analyst with Forrester Research. "They lost an opportunity to take consumers' new behavior and really monetize it in a way that nipped the free music expectation in the bud."

That implies that if the industry had simply licensed its music online in 1999, rather than 2003, the dollars spent on recorded music would have remained propped up. I don't buy it. This ignores the fundamental economics of what's happening in the industry -- but, thankfully, some folks are noticing this. Matt Yglesias points out how wrong the claim by Forrester is, by noting that the market for recorded music was due for a correction just based on fundamental economics:

Music industry executives can tell themselves that as long as they want. But under conditions of perfect competition, the price of a song ought to be equal to the marginal cost of distributing a new copy of a song. Which is to say that the marginal cost ought to be $0. That's not a question of habit, you can look it up in all the leading textbooks. Of course real businesses rarely operate in circumstances of perfect competition, and record companies have a variety of political and legal tools they can deploy to try to protect monopoly rents. But this is hard to do. I think the real story with the iTunes store is that over time competitive pressure has impelled it to largely drop DRM and over time I expect we'll see that the CPI-adjusted price of songs declines.

Tim Lee, who pointed us to this piece in the first place, tacks on the point that "the economic argument for free music is unrelated to 'piracy.'" This is, indeed, a key point and one we've tried to make in the past, but one that sometimes gets lost in the shuffle. The basic economics of music suggest that it was going to face downward pricing pressure all along. That has little to do with unauthorized access to music or whether or not the major record labels sucked it up and did licensing deals with Napster. It was just where the market was going to head one way or the other -- because, over time, more and more people would begin to realize that free music was an excellent promotional tool for other things, and that would drive more business to those other areas. That, in turn, would lead more and more musicians and their business partners to recognize the benefit as well. In fact, we're seeing that happen today. The fact that unauthorized access to files online may have helped push that realization forward doesn't change the fact that those pressures were going to come one way or the other.

The recording industry may have missed a chance to slow down the decline in recorded music sales, but it hardly could have kept the numbers as artificially inflated as they used to be.

Separately, the CNN article is incredibly weak in that it makes the mistake of implying that the recording industry is the entire music industry. It completely ignores the fact that the overall music industry has actually been growing as sales of recorded music have dropped. People have just shifted their spending habits, and that likely would have happened whether or not any licensing deal had been worked out in 1999.

They keep saying they missed the boat but they still putting every new business that can potentially sell more product for them out of business.

Why not set up a wholesale pricing program. Throw in the towel a bit and say we have failed at the distribution. Give others a chance to wholesale there music for say twenty five cents a song Perhaps Sam Goody, Virgin Music stores etc... whomever thinks they can get more people buying the music instead of "stealing it"

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I arrive.

It completely ignores the fact that the overall music industry has actually been growing as sales of recorded music have dropped.

Mike, actually, both the UK and Swedish numbers suggested that consumer spending as a whole remained flat for a long period of time, the dollars shifting from recorded to live music, but that not really any more money was spent. Further, neither of those two studies indicated if there was an increase in live attendance and live shows, or just a significant increase in ticket prices (as has been shown for acts such as Madonna and Bon Jovi).

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We all know that economics have a known anti-recording industry bias, and so we should just ignore them. I also suspect that there is something more to this story so the entire story is therefore instantly invalidated. Also go FOAD, but don't forget to respect others (the recording industry) and not allow any copyrighted music to be played at your funeral after you FOAD.

I'm probably going to get a lot of disagreement with this. But I think that if the music industry had opened an iTunes-like store prior to Napster, about 1997, P2P would not have been pervasive had it was and is.

I remember people sharing music via IRC and Usenet in the mid 90s. But it was difficult so not many newbs did it. It was not until 1999, when Napster was released, that suddenly everyone could share music.

iTunes did not come out for four more years. And even when it did finally open, it was limited to only iPod users. It was several more years before Amazon provided a DRM free reasonably priced alternative for everyone else.

During those years between Napster and legitimate services, people got used to getting what they wanted for nothing. By the time the legitimate services arrived, it was too late.

I'm not arguing that P2P never would have existed. Certainly it would have existed and it would have been widely used. However, most of the sheeples in the world would have stuck with the 1997 iTunes because it would have been relatively cheap and easy to use. And most sheeple never would have had any reason to use P2P.

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They keep saying they missed the boat but they still putting every new business that can potentially sell more product for them out of business.

i think they are holding out of something that will pay them at a rate which was commensurate with the late 90's. when you frame it that way, then yes, that boat has sailed and it ain't comin back no more.

also, i think the recording industry's major problem is their product: catchy, but ultimately forgettable radio tunes, just don't transition to digital delivery. the industry wants to push a reletively small amount of product and promote it so that it is virtually guaranteed success. that process costs a lot of money and leads to lots of unauthorized downloads.

the industry's problem is that product with mass appeal gets massively downloaded without authorization.

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I'm probably going to get a lot of disagreement with this. But I think that if the music industry had opened an iTunes-like store prior to Napster, about 1997, P2P would not have been pervasive had it was and is.

I agree that's true, but again, the point of the post was that it wasn't Napster that has driven the price point down, but basic economics that would have driven the price point down no matter what.

The recorded music industry could not have made a deal with Napster around 2000, because of the relationship with the record stores. The record retailers (correctly) saw that delivery of music over the Internet had the ability to end their business, and in 2000, the brick-and-mortar stores were responsible for approximately 100% of the revenue to the record labels. So the record stores had considerable leverage against the labels to fight against any attempts to legitimize Internet-based music.

Sometimes it's a perfect storm.

To ima_fish: an iTunes-like store could not have gone anywhere in 1997 because nearly all home users were on dialup, and the public web was only a couple of years old.

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Additional:
I never respond to his 'arguments' for several reasons.

Chiefly, I asked for a reasoned response to a single economics question (a fairly basic one for anybody who's taken a college econ class) with the offer of always responding with thoughtful discourse if only he could offer a factual reply. To date: no reply. So, until then, I shall only respond to him as "Igtor, my pet ignorant troll."

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FREE MUSIC

There has always been free music in advertising..
RADIO was the medium.
In the larger areas you also had OFF brand music, that was nowhere else, insted of the PAID OFF radio stations POUNDING a series of songs.
AS radio has become a COMMERCIAL HAVEN, music had to move out and find a better place to be heard.
Even Live music, has changed. Tickets used to be CHEAP, and the artists got paid good money for a Live concert. NOW they get paid(most times) and the tickets cost a small fortune if you want to be ANYWHERE CLOSE enough to hear the music. And there are FEW location that more then 15,000 people can sit and watch a BAND in the USA.
In Europe and a FEW places in the USA, you can hear the music OUTDOORS and millions can come hear the music, but someone has to PAY??

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Basic economics?

But under conditions of perfect competition, the price of a song ought to be equal to the marginal cost of distributing a new copy of a song. Which is to say that the marginal cost ought to be $0. That's not a question of habit, you can look it up in all the leading textbooks.

Yglesias is wrong here, isn't he?

In the econ courses I took, the natural price was the intersection of supply and demand. Cost has nothing to do with it. Yes, a lot of people get this all mixed up and talk about cost as being the determiner of price, but it's simply not true. (Is movie theatre popcorn expensive because it costs a lot to make? I don't think so!) Cost may drive you out of business if it's greater than the natural price set by supply and demand, but it's not a basis for pricing.

What scares the music studios, I feel, is that, in this modern age, the scarcity of supply has all but evaporated – they can't control supply to create scarcity like they did, and on the flip side demand can be quite elastic in the face of overly high pricing – which means these new conditions tend drive down the price for which they can sell the music.

[Universal CEO Doug] Morris insists there wasn't a thing he or anyone else could have done differently. "There's no one in the record company that's a technologist," Morris explains. "That's a misconception writers make all the time, that the record industry missed this. They didn't. They just didn't know what to do. It's like if you were suddenly asked to operate on your dog to remove his kidney. What would you do?"

Personally, I would hire a vet. But to Morris, even that wasn't an option. "We didn't know who to hire," he says, becoming more agitated. "I wouldn't be able to recognize a good technology person — anyone with a good bullshit story would have gotten past me." Morris' almost willful cluelessness is telling. "He wasn't prepared for a business that was going to be so totally disrupted by technology," says a longtime industry insider who has worked with Morris. "He just doesn't have that kind of mind."

Misunderstanding of technological progress

I also disagree with the idea that there was even an opportunity to "[nip] the free music expectation in the bud" from the point of view of the technology. As has been said, the Internet-based distribution has accelerated the downward pressure on the price of music but that expectation of free was already largely there since well before Napster made it to the scene. People have been exchanging and copying the tapes for quite some time. As soon as the technology that allowed the copying has appeared that expectation came alive. It would have been follish not to assume that future technological breakthroughs would not have made it even simpler. The only way to "nip" it would be to go back to vinyl and gramaphone.

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Right, and the underlying economic principal in play, tying music to "units sold" is outdated and artificial.

Check out the Pixie's latest offering, its $500 but its jam packed with every release, art, extras, every band mate's signature, all kind of crap. I'm a big fan since the late 80's so I bought one. And I hate spending money on crap like that. Its a beut of a piece of crap though...

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@AC: "He just doesn't have that kind of mind."

Greeaat. SO- who in their right mind would sign this guy to run anything? Wouldn't you WANT some one who was clued in? I think the only corp this guy would be capable of running is Barone Sanitation. Or maybe the Teamsters.

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AWAITING (MORE) PROOF OF TAM'S "TROLLERY"

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by IshmaelDS (profile)
I'm curious, could you link to those numbers? I would be interested in reading what they say. Mike was kind enough to link to his numbers, I'd like to compare them.

(reply to this comment) (link to this comment)

So here it is TAM. You have the opportunity to prove you are not a troll. Someone other than myself asked you a question. Of course..you aren't expected to answer right away. The point is...let's see if you answer at all. Of course you're not REQUIRED too, as you've so stupidly put it before, but it doesn help prove you are here for discussion, which I troll wouldn't be interested in.

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Re: Basic economics?

Yglesias is wrong here, isn't he?

No, he's actually correct.

In the econ courses I took, the natural price was the intersection of supply and demand. Cost has nothing to do with it. Yes, a lot of people get this all mixed up and talk about cost as being the determiner of price, but it's simply not true. (Is movie theatre popcorn expensive because it costs a lot to make? I don't think so!) Cost may drive you out of business if it's greater than the natural price set by supply and demand, but it's not a basis for pricing

Yes, the price is where supply equals demand, but in a competitive market, that's *the same thing* as marginal cost. Matt's point is exactly right. Supply/demand intersection is actually the same thing as marginal cost. It's actually a good way to "check" your economics. If the intersection of supply and demand is the same as marginal cost in a model, you did it right. If it's not, something went wrong.

The popcorn example is meaningless, because that's not a competitive market.

What scares the music studios, I feel, is that, in this modern age, the scarcity of supply has all but evaporated – they can't control supply to create scarcity like they did, and on the flip side demand can be quite elastic in the face of overly high pricing – which means these new conditions tend drive down the price for which they can sell the music.

Right. And the reason the supply went infinite is.. because the marginal cost is zero.

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Re: Basic economics?

I agree with this. I think over the years consumers have developed a diminished sense of value for a product that has lost it's scarcity (or became abundant, however you want to look at it). I don't think the argument is about marginal cost at all because the retail price of CD's was enormously inflated during the late 90's and they sold massive amounts, while the retail price of digital downloads is still enormously inflated and sales are off. This is a supply / demand problem that's still a long way from being figured out.

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What does it matter if the increase in live revenues comes from audience numbers or ticket prices? If people are willing to pay even more for those tickets, then the industry should absolutely raise the prices - that's the whole damn point. Make your money on the stuff people value so much that they will pay for it. Set your prices based on the laws of supply and demand - especially in concerts where you have a great deal of control over the supply side (venue choice, show frequency), so you can almost always strike a favourable (profitable) balance.

It looks like Anti-Mike does indeed believe you are a troll, and is thus a troll, because he refused to link to the studies on UK music sales figures. Even if the figures are not online (ie..from a proprietary report, or he couldn't find them) he could at least respond. Did he?
NO. Is he a troll? YES.

PROOF OF TAM'S TROLLERY PEOPLE. YOU REARD IT HERE FOR THE BILLIONTH TIME.

Couple things:

1. Can we *please* stop confusing the "music" industry with the "recording" industry?

And can we also *please* stop confusing the "recording" industry with the "recording/distribution/screw-the-artists/lobby-for-ever-longer-copyright-terms" industry?

1. The "music industry" is -- in it's broadest sense -- any "music-related" activity which somehow involves money: everything from busking on street-corners, to doing live gigs, etc. etc.

2. The "recording industry" is any RECORDING of music for money, whether that involves a "label" in the traditional sense, or not. For example -- in the town where I live there are several studios where you can go, and they'll record and mix your music for a fee. They usually have nothing to do with the distribution side of things, which is why a lot of "unsigned" (GENUINELY independent) artists end up with 1000 physical units (CD's nowadays, previously cassette tapes) in their garage or basement.

3. The ones *really* losing out with so-called "piracy" and suchlike, are the "record/distribute/screw-the-artists/lobby-for-ever-longer-copyright-terms" crowd -- primarily the multinational corporate megaliths using front-groups like the RIAA, BREIN, IFPI, etc. to bullshit us into believing that THEY are the "music" industry -- as opposed to the rapaciously greedy, useless shits they really are.

Couple things:

1. Can we *please* stop confusing the "music" industry with the "recording" industry?

And can we also *please* stop confusing the "recording" industry with the "recording/distribution/screw-the-artists/lobby-for-ever-longer-copyright-terms" industry?

1. The "music industry" is -- in it's broadest sense -- any "music-related" activity which somehow involves money: everything from busking on street-corners, to doing live gigs, etc. etc.

2. The "recording industry" is any RECORDING of music for money, whether that involves a "label" in the traditional sense, or not. For example -- in the town where I live there are several studios where you can go, and they'll record and mix your music for a fee. They usually have nothing to do with the distribution side of things, which is why a lot of "unsigned" (GENUINELY independent) artists end up with 1000 physical units (CD's nowadays, previously cassette tapes) in their garage or basement.

3. The ones *really* losing out with so-called "piracy" and suchlike, are the "record/distribute/screw-the-artists/lobby-for-ever-longer-copyright-terms" crowd -- primarily the multinational corporate megaliths using front-groups like the RIAA, BREIN, IFPI, etc. to bullshit us into believing that THEY are the "music" industry -- as opposed to the rapaciously greedy, useless shits they really are.

Conversations of the past .....

"because, over time, more and more people would begin to realize that free music was an excellent promotional tool for other things, and that would drive more business to those other areas."

Music, TV, News, and Movies are all loss leaders. Once the people distributing content realize this things will work out for the better short term. The recording industry is doing 360 deals with artists which is a start. The problem with 360 deals is simple. All you need is a big artist to pay attention to you and be willing to promote you and the labels go away. Market efficiencies come into play with the labels being inefficient and a big placing the artist on their next album being efficient.

I should have stretched that thought out to the full explaination but I think most people will get the idea.... been doing that alot here recently

What about ring tones?

If it were true that people would prefer to download songs for free rather than buy them if a better buying system had been put in place, why are people paying for ring tones?

People are more than willing to pay a nominal price (even if it's near 100% profit to the seller) for something if it is more convenient to buy rather than the alternative. People pay $5 for a cup of coffee with 50¢ worth of ingredients in it. People pay $10 for a glass of wine (in a plastic cup) at a festival when the entire bottle can be bought for $10 at BevMo, and the actual cost to make the bottle is closer ~$2. People pay $60 for a bottle of wine at dinner when they can buy the SAME bottle at BevMo for $20, and pay $10 corkage to have it served to them at the same restaurant!

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The 2008 numbers are there, I can't seem to locate the 2004-2008 numbers (I know they are around). Net in 2008 is only a 3% increase in consumer spending, and that brought consumer spending back to the level or 2004 (if I remember correctly). There is a missing story through the guardian that had a nice link to those numbers and graphs, which comes back blank now).

Basically, the total music industry revenues in the swedish graph (including licensing and collecting) has remained flat over the 2000-2008 period as a net number. Recorded sales down, live sales up, collections up. Net consumer spending (less collections) actually flat or down.

I am not sure if Mike remembers where the UK numbers for 2004-2008 are, I can't seem to find them.

They certain missed an opportunity

They missed the opportunity to avoid alienating billions of music fans to the point where most see nothing wrong with copyright infringement and so many see infringing as a way of 'getting back' at the recording industry for their abuses.

If they had moved to protect their copyright given monopoly by embracing the changes rather than opposing them they would be better monetizing music today.

Importantly, while the economics suggest this could only ever be a case of delaying the inevitable, the delay would have given them more time to adapt to a new reality. Time they no longer have.

Re:

"an iTunes-like store could not have gone anywhere in 1997 because nearly all home users were on dialup, and the public web was only a couple of years old."

I disagree. If Napster got as big as it did with most users on dialup, there would have been plenty of opportunity for a paid system. The problem is, Napster offered a great deal of benefits that weren't directly tied to its free nature - it was a fantastic discovery tool, and featured pretty much everything you could possibly want to obtain along with no DRM. Even now, the labels refuse to offer such a service, so back in 1997 it would have been impossible. But that's their mindset at issue, not the technical nature of the connections.

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Sorry, but I cannot find the link on techdirt to the story (as one of the links goes to a dead or removed story on another site). The swedish numbers do clearly show what I mean, the area from 2000 to 2008 has no increase in total income, just shifting of that income.

The UK single year study shows a net 3% gain in that single year, but the total net consumer dollars spent was the same as it was about 4 or 5 years earlier. If I get a chance I will see if I can find those numbers on another site, but as I mentioned to the AC in another thread, I am not your research intern, and I don't intend to spend the day searching for old reports. I am hoping that Mike might remember where they are and pipe up, as I can't seem to find them on Techdirt (even though they were discussed at length, which makes me wonder if some content has been retired off the site or something).

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you do realize that 2008 was a recession year, right? and that a 3% growth during a recession is actually quite an accomplishment... Pat yourself on the back, rather than complain about that the growth wasn't big...

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Thanks for the numbers, I appreciate it, I don't want to imply "your my research intern" but if your going to contradict people, especially people on the internet, that have provided numbers you really need to provide contradictory numbers or why would anyone listen? Linking to them is considered good form, but it's not required, what is required for anyone to really take you seriously is to reveal your sources for your point of view. I'm always open to a discussion but you can't really get a good discussion going without having some basis for understanding where someone's coming from.

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People would wait half an hour to download a free MP3 through Napster. I doubt people would have paid even $1 for the same privilege at the time. It was time that was paid for the download at the expense of cost that made it worthwhile to do. To spend that much time in addition to paying money would have been too much for the average user, I believe.

Opportunity Knocks

I agree it's debatable whether or not the "Music Industry" missed the opportunity to monetize online. As with the shifting of any industry, there will always be set backs and advancements, but most of all countless opportunities. There are so many opportunities still out there to be seized. It just amazes me how many people are still so blinded to the potentials. Our firm meets with numerous executives at various label groups on a consistent basis and it never ceases to amaze me how closed off these individuals can be to change.

It will be interesting to see what will dominate in the future, in regards to music ownership vs streaming. I must admit that I haven't seen the value for me in streaming. However, I am quickly opening up to this development.

I can say that here in Nashville there are some major developments going on under the surface that will shake the overall music industry if the planned launches are successful.

Music A Product?

Look, I've been seeing all sides of this argument, trying my best not to take sides.

First up, I've been involved with people in the music business, and most of them were absolutely clueless what to do.
Most of the managers remind me of Universals CEO Doug Morris.
This technological disruptive technology moved too fast for their methods of business conduct.

It's all very easy for you people to cite their short comings in hindsight, and now they're realizing their own.
But at least they were there.

But I still take issue with tunning artists into product.
What your doing is commoditizing the human condition and its art.
But to add insult to injury, you say they're not a scarcity!
That's funny, truly gifted people and art is. What you have today is just that, product!

Just so you don't take me the wrong way, I do believe in the new frontier of distribution. But I'm still very skeptical about many peoples motives, as anyone acutely aware of human behavior would.

The reason ticket prices are through the roof, is to make up for lost revenues and escalating costs. The only reason people pay it, is because they can't jump the fence.

As soon as atomic relocation technology becomes available,
that may change. Beeeeeeeeeeeeeeeeeem me up Scotty!

Artificial Inflation

I take issue with the claim that if "the price of a song ought to be equal to the marginal cost of distributing a new copy of a song" then the cost of a song should be free.

What this argument fails to account for is that invariably, included in the cost of distributing the album, would be the cost of "manufacturing" the album which at this point would merely be represented by the creative process of the artist and the value that the music imparts to them. This would certainly not amount to zero.

Where the industry's economics are faulty lies in the fact that sales figures have been artificially inflated over the past few decades due to the format of the album. Prior to the advent of the CD, listeners heard songs on the radio and then went to the store to buy those songs that they wanted.

In the CD era, listeners would hear songs on the radio and would go to the store to buy them but end up with 10 extra tracks tacked on and a price tag of ~ $20.

What we've seen over the past few year in the iTunes era is a decrease the amount of album sales and an increase in the number of singles sales. This indicates that we are finally getting a realistic picture of the size of the market for recorded music, not what a record company wants it to be.

Obviously these examples pertain to the commercial music industry but that is afterall the market that generates sales charts.